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The Honolulu Advertiser

Posted on: Sunday, July 20, 2003

Corporate tax collections on the decline in Hawai'i

By Sean Hao
Advertiser Staff Writer


Payrolls are rising. Bankruptcies are on the decline. And general excise tax collections — a broad gauge of economic activity — are up.

But if income tax receipts are any indication, all may not be rosy at Hawai'i corporations, or businesses are taking wide advantage of a bevy of tax breaks to trim their bills.

Preliminary data show corporate income tax collections plunging nearly 82 percent, or $37.2 million, to $8.3 million during the fiscal year running from July 1, 2002, through June 30.

"That's a huge number," said Kurt Kawafuchi, director for the state Department of Taxation. "It's something that we're really focused on and it's something that we want to figure out and see what we can do to stop the erosion."

Just what's causing corporate tax collections to plummet remains a matter of debate, but the trend is nationwide.

A report released last week found states lost as much as $12.38 billion in 2001 as a result of corporate tax shelters. Corporate income tax collections would have been 35 percent higher had a relatively small number of businesses engaged in aggressive tax avoidance strategies, according to the Multistate Tax Commission.

The declines come at a time when states such as Hawai'i are having to make deep cuts in spending on education and healthcare, among other services.

For Hawai'i, the problem isn't critical. Corporate taxes amounted to about 1.5 percent of general fund tax revenues in fiscal 2002.

That's because much of the money in the state budget comes from general excise and individual income taxes.

However, when companies pay less other taxpayers have to carry the load. During fiscal year 2003, state individual income tax collections fell about 3 percent, or $33.5 million, to $1.04 billion. When a $41.1 million reduction in income tax rates during the year is factored in, individual income tax collections were essentially flat.

At the same time, general excise taxes, which are levied on businesses and consumers, brought the state $1.79 billion, for an increase of about 11 percent.

Those strong collections coupled with the state's relatively low jobless rate points to tax credits as the culprit for the drop in corporate taxes, Kawafuchi said.

The Council on Revenues, which provides forecasts used to develop the state budget, estimated that tax credits cost the state $180.1 million in fiscal 2003, with $83.2 million of that loss due to corporate tax credits and $83.9 million due to tax credits for individuals. The rest were claimed by insurance companies.

Just how much Hawai'i companies actually saved because of tax credits won't be clear until the Tax Department issues a report around December. However, "based on the best information that we have we think the tax credits especially Act 221 have contributed to the decline," Kawafuchi said.

Act 221, which was created in 2001 to attract investment in high-technology enterprises in Hawai'i, provides generous tax credits and has been used by such ventures as big-budget movies filmed in the Islands.

Whether the drop is a result of a tougher-than-anticipated economic environment or tax credits could be crucial as lawmakers continue to debate the cost and merits of business tax incentives. Gov. Linda Lingle campaigned fervently this year to get lawmakers to scale back the scope of tax credits available under Act 221.

Lingle claimed the incentives were too costly and were not being used as intended. House Democrats successfully resisted the changes and argued that the credits, which are aimed at diversifying the economy, should be left untouched.

Plunge in Hawai'i corporate tax collections

General fund tax collections (in billions)
Fiscal year
2003 — $3.18*
2002 — $3.05
2001 — $3.16
2000 — $2.97
1999 — $2.85

Corporate income tax collections (in millions)
Fiscal year
2003 — $8.26*
2002 — $45.47
2001 — $60.79
2000 — $68.2
1999 — $42.64

Cost of tax credits (in millions)
Fiscal year
2003 — $180.1 est.
2002 — $89.32
2001 — $72.75
2000 — $53.13
1999 — $72.86
Overall revenues increase

Despite administration predictions of revenue declines, total tax collections for the year rose a respectable 4.3 percent to nearly $3.18 billion. That figure excludes collections going into numerous special funds.

"I think that what this demonstrates is that contrary to the administration claims, Act 221 did not bust the budget," said state Rep. Brian Schatz, D-25th (Makiki, Tantalus).

Still, the precipitous drop in corporate income taxes is alarming and illustrates the need to review all state tax credits to evaluate their cost versus their benefits, he said.

"The tax credits are clearly reducing corporate income tax revenues," said Schatz, chairman of the committee on economic and business concerns. "It's something that's going to require further investigation."

Sept. 11 reverberations

The drop in corporate taxes comes on the heels of what was a weak fiscal 2002, when corporate tax collections fell 25 percent, or $15.3 million, from the prior year to $45.47 million. Some of that decline is pegged to the after-effects of the Sept. 11 attacks on businesses and tourism. Businesses don't pay income taxes unless they post a profit.

Continued fallout from that event as well as the high-cost of doing business in Hawai'i are the most likely culprits for the continued drop in corporate profits, said Lowell Kalapa, president of the nonprofit Tax Foundation of Hawai'i.

"If businesses aren't paying more corporate income taxes ... they're not making profits," he said. "If they're not making profits, then there's a chance businesses can't stay in business."

One economic barometer would appear to support that theory.

Although bankruptcy cases in Hawai'i remain down overall this year, Chapter 11 bankruptcy reorganization cases, which almost exclusively involve businesses, were up 83 percent to 22 cases through June. The most high-profile case of the year so far involves interisland carrier Hawaiian Airlines.

State Sen. Sam Slom, R-8th (Kahala, Hawai'i Kai), agreed that some of the reduction in corporate profits is caused by rising business costs for healthcare, workers compensation, liability insurance and other things.

"Businesses are still struggling," said Slom, who runs Small Business Hawaii. "Even if they're seeing higher sales, the cost of doing business in Hawai'i continues to go up exponentially."

Reach Sean Hao at shao@honoluluadvertiser.com or 525-8093.